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Anyone who's owned Asian shipping stocks over the past few years knows that sinking feeling. Since the financial crisis in 2008, the sector's share prices have been underwater. They're now so low it's reasonable to ask whether it's a good time to jump on board again.

Before we answer, some background. The industry can be divided into bulk and container shipping. Bulk shipping is mostly focused on transporting iron ore and coal; it also covers oil and liquefied-natural-gas tankers and, to a lesser degree, car transport. Container ships, as the name suggests, cart around containers mainly full of finished goods from Asia's exporters to the West's hungry consumers.

Whether bulk or container, shipping activity is governed by the waxing and waning of global economic demand; bulk operators over the past decade have relied on supplying materials to Chinese power plants and steel mills to fuel the Middle Kingdom's infrastructure-construction binge.

Shipping is an extremely cyclical business because operators tend to overinvest in trying to capture all the business they can in good times, then get stuck with too many expensive, empty ships in bad times. This is best exhibited by the volatility of the Baltic Dry Index, an average of spot dry-bulk shipping rates. The BDI rose 580% between January 2003 and May 2008, and has since plummeted so far that it's down by 44% since January 2003.

The nice symmetry of the move can make it appear like a good time to buy, and bulls do have a case. With the lack of profits, price-to-forward net asset value or price-to-book are the easiest and most sensible ways to value the stocks. In previous cycles, Asian bulk shippers such as China Cosco and
China Shipping Development1138.hk 2.536231884057971%China Shipping Development Co. Ltd.Hong KongHKD5.66
0.142.536231884057971%
/Date(1427835663000-0500)/
Volume (Delayed 15m)
:
44118605
P/E Ratio
49.08933217692975Market Cap
39215404235.5418
Dividend Yield
N/ARev. per Employee
2059780More quote details and news »1138.hkinYour ValueYour ChangeShort position
(1138.Hong Kong) bottomed out around 0.4 times to 0.6 times book value. China Shipping Development is trading right at the bottom of its price-to-book range, 0.4 times. And the BDI looks to have bottomed out this year in the 700-to-1,000 range, suggesting a tenuous stability in day rates; some shippers have locked in long-term contracts that make them less vulnerable to the vagaries of day rates.

We just don't think the cyclical downswing is over. The Street is forecasting 2.1 billion yuan ($330 million) in losses for 2012, according to Thomson One. Admittedly, analysts are more bullish about 2013, expecting a swing back into the black with 1.1 billion yuan in net income. However, worries about China's hard landing and record coal-inventory pile-ups in Chinese ports suggest the consensus may be too sanguine about the future.

Thermal-coal inventories at the key Qinhuangdao and Tianjin ports in China hit all-time highs in mid-June as thermal electric power output fell 4.2% year-on-year, suggesting waning economic growth, given electric power output's high correlation with gross domestic product. (Inventories have begun to come down since June but remain high by historical levels.)

Some of the traditional relationships seem to have fallen apart since 2008, making standard valuations and forecasts less reliable. In early 2009, courtesy of Beijing's credit-fueled construction stimulus, Chinese steel production and iron-ore imports rebounded, yet rates, as measured by BDI, just continued to sink.

The reason: A glut of new ships as vessels ordered during the 2004-to-2008 boom came on line. This is problematic. The bulk business primarily competes on price and space, meaning operators have few other competitive strengths to offer customers. The dearth of profitability implies the core value of Asian shipping stocks resides more in the value of the vessels than in any solid business franchise.

And scrap volumes have been rising while scrap prices for dry-bulk ships have been sliding; they were off 13% year-over-year in June. Oversupply and unprofitable charter rates are pushing operators to scrap their ships. Meanwhile, Chinese shipyards seem content to keep cranking out new vessels at prices not far from the already-distressed resale value of second-hand ships.

Granted, Commerzbank, the world's third-largest shipping lender, has gotten out of the business, which will make it harder to finance new capacity. The dry-bulk order-book for new ships has come down from an all-time high, equivalent to 79% of the existing fleet, in August 2008, to around 25%. But these are still huge levels—from 1998 to 2002 the order-book never breached 15%—and fleet-growth rates at or above 10% have rarely been positive for the BDI.

This all implies that the book value of some shippers may be overstated given the distressed resale and scrap prices. Not much solace to investors who already are on board, but fair warning for those waiting at the dock.